Monty Rakusen
Natural Resource Partners (NYSE:NRP) owns mineral rights to both steam and met coal assets, as well as have a 49% stake in a Wyoming soda ash plant. The 2023 results were strong, and the units have rallied accordingly. It’s possible that the units still have upside, given the improved business performance and management’s disciplined capital allocation. Nonetheless, we can’t escape the fact that these are cyclical end markets, and we’re likely fairly close to the top of the cycle for both metallurgical coal and soda ash.
Previous Write-Up
I last wrote-up NRP in January 2023, at the time I argued it was inexpensive with multiple ways to win. I think that write-up remains a useful overview of the business. The units have now exceeded my optimistic price target of $93/unit in January, though has slipped a little since. 2023 results were generally strong, and sentiment around coal has improved, so I wanted to update the thesis.
2023 Showed Resilience In Met Coal
2023 saw two clear catalysts play out. The first was that the business continued to demonstrate its commitment to metallurgical coal, which reached 70% of mineral rights revenue in 2023.
This is important because steam coal, used as a fuel source in power plants, is likely dying at some point. Substitution away from steam coal, at least within the U.S., seems inevitable, whether to renewables or gas. However, the timing is up for debate. Steam coal likely deserves a low ‘multiple’ given the prospect of volume decline over time.
However, metallurgical coal is much less a dying commodity, though admittedly is still a commodity, and subject to cyclicality. It is used in steel production, and the only real substitute is to recycle steel through an electric arc furnace – EAF. There, as the name suggests, electricity can be used, though you must recycle steel as the feedstock, rather than use iron ore. Importantly, with an EAF, the process becomes less carbon intensive (depending on the electricity source) and more flexible.
But nonetheless, if you want to make steel from iron ore, you need metallurgical coal, and NRP can collect mineral rights from those sales from its geographies. Wholesale substitution to electric arc furnaces here is a little more complex as it changes the feedstock too, and specific quantities of used steel are required, which may not always be available at the appropriate specifications. There’s a good discussion of the nuances of the coal market on this podcast for those interested in going deeper, and the ultimate assessment is a little more optimistic than mine.
Overall, given NRP’s results and how management discussed them, I think the market took note that NRP will likely have a more robust coal business going forward given their ability to focus on the more sustainable mineral rights from met coal.
Soda Ash Business Performing Well
The second driver for NRP is its 49% in a large soda ash plant in Wyoming, which was arguably undervalued by the market previously. Soda ash is used to make glass, among other things. This business continued to perform well in 2023, with $81M of distributions, the highest annual distribution that NRP has ever received.
Robust Capital Allocation and Incentives
If you look at slide 9 of the corporate presentation, you will see NRP’s progress on deleveraging and commitment to continue this process. In 2023, they took some preferreds out of the capital structure for a cash payment. Their goal is to retire all debt, redeem preferred equity and eliminate the warrants from their capital structure (slide 8 of corporate presentation). Of course, many management teams may talk this way, but NRP management has steadily delivered since 2014 with consistent annual progress. It’s also encouraging that management owns 25% of the units.
Risks
Risks remain with NRP. Firstly, in my previous write-up, I ascribe reasonable value to carbon-neutral projects. I think that was likely too optimistic and certainly too soon. Revenue from carbon-neutral projects actually declined in 2023, and though management is exploring various angles here, progress has been relatively limited.
Currently, two leases are in place for carbon sequestration projects, one of them with ExxonMobil. However, the keywords from the recent investor presentation are “should injection take place”. If carbon sequestration works as a technology and industry embraces it, then NRP can likely collect a material royalty. Still, when and if that occurs remains an open question.
Management also has other irons in the fire here, in terms of geothermal energy production and payments for forestry, which is its own form of carbon sequestration. Nonetheless, it’s a small part of the business today and there aren’t signs of hockey stick growth yet.
Secondly, we may be at something close to peak earnings for the business. Soda ash is performing well, and management stated that 2024 could see some softening of pricing due to some over-supply. Specifically, management stated on the Q4 earnings call that:
We expect 2024 to be a challenging year as global soda ash markets absorb significant new production volumes, a process that we believe will take several years to complete.
Met coal is also enjoying relatively strong pricing as well. As with all commodity cycles, this may not last, and free cash flow of $313M for 2023 is at an 8-year-high.
Lastly, remember that this is a Master Limited Partnership and the K-1 filing during tax season can bring complexity for investors and may not be suitable for some investors or investment account types.
Valuation
In terms of valuing the units, there is less of a stark discount to fair value than in early 2023. However, $313M of free cashflow relative to an equity capitalization of ~$1.2 billion does appear superficially attractive. Here again is a rough valuation of the business.
| Asset | Value | Comments |
| Sisecam soda ash plant | $500M | 2023 results and related transaction multiples demonstrate the value here |
| Steam coal mineral rights | $210M | Clearly in structural decline, the only question is how fast, here I assume $70M normalized FCF on 3x |
| Met coal mineral rights | $840M | Splitting this out as met coal likely has a brighter future than steam coal (7x estimated $120M FCF) |
| Carbon-neutral projects | $50M | These appear to represent more ‘option value’ on successful innovation than a real business at this point |
| Corporate costs | -$200M | Unchanged from 2023 |
| Less debt/preferreds/warrants | -$270M | cost to retire all other elements of the capital structure according to management |
| Resulting unitholder value | $1.1B | |
| Value per unit | $90 | 12.5M units |
The main differences to my January 2023 valuation are that I’m a little more bullish on the coal assets, a splitting out met coal highlights this. However, I’m more bearish on carbon-neutral projects, given limited progress in 2023. Most importantly, the unit price has increased substantially, making the units relatively less attractive.
Conclusion
NRP is a well-run business with attractive assets and unitholder alignment with management. However, it may be close to cyclical peak earnings with the prospects for soda ash weakening in 2024 with new supply and met coal performing relatively well too. Of course, I have no crystal ball as to when and how things will play out, but we’re arguably much closer to the top of the cycle than the bottom for both of NRP’s key commodities and there is probably less of a clear margin of safety here than there was previously.
Still, to the extent the business continues to produce free cashflow and uses that free cashflow to eliminate other parts of the capital structure, unit holders could continue to benefit. For example, generating $200M of free cash flow and using that to pay down debt, preferred equity etc. is likely worth an incremental $16/unit to unitholders.
NRP remains a well-run company with lots of opportunities, but it’s now more fairly priced than previously, and I’ll likely be trimming my exposure as other opportunities arise.
